European QE Sparks Warning of Currency War

European companies have been warned that the European Central Bank’s (ECB) confirmation that it will embark on a quantitative easing (QE) programme could spark a currency war with the UK.

The ECB decision was anticipated, although the amount – €60bn monthly purchases to be conducted from March 2015 to at least September 2016 – was higher that most analysts had anticipated. Total bond buying could be up to €1.1 trillion.

“Today’s measures will decisively underpin the firm anchoring of medium to long term inflation expectations,” announced ECB president Mario Draghi. He added that ECB will not buy more than 25% of each country’s debt issue, and 33% of its total debt to allow actual market pricing.

Philippe Gelis, chief executive (CEO) of currency specialist Kantox, commented: “The ECB’s QE programme could bring about a currency war with the UK. A weaker euro will hit UK exports to the eurozone. The Bank of England (BoE) may decide to lower interest rates to counter a fall in exports but they must be careful to avoid adversely affecting foreign investment in the UK.

“This is a tentative time for the British economy, with a recovery on track but far from secured and an upcoming general election that will likely see no party with a seat majority.

“As the eurozone is the UK’s biggest trading partner, the BoE will have be careful in what could be a volatile year for sterling.”

Investors would offer a cautious welcome to the ECB’s move and look to buy eurozone equities – particularly exporters – and to a lesser degree the Danish krona (DKR) and gold, suggested Tom Elliott, international investment strategist at financial advisor deVere Group.

“The ECB has added its newest €60bn a month battleship to the currency wars, which only the US and Swiss stay aloof from. It is a larger-than-expected QE programme, designed to inflict shock and awe on markets,” said Elliott.

“Its goal is to severely weaken the euro and so spur exports and boost imported inflation. Let’s not pretend it will boost eurozone lending, while the bank sector remains so weak.

“But while this will boost eurozone stocks, by weakening the euro, investors should regard QE with mixed feelings. Capital markets are in a curious and unstable mode thanks to QE from other central banks that has pushed up all asset prices in recent years with little discrimination over quality.”

“Many investors will pile into eurozone export-based stocks. But a broader stock market recovery may happen if, and when, stronger exports feed through into a broad-based recovery, which is the intention.

“In addition, investors may look to buy DKR on the chance that the Danes break their peg with the euro, preferring a revalued DKR and a recession to the risks caused by ultra-loose ECB monetary policy. The current peg has resulted in a large and destabilising current account surplus. This would echo the Swiss franc (CHF) move last week, though in the case of Denmark the significance would be greater given the duration of the peg with the deutschmark and then the euro.

“If the idea of the Danish National Bank (DNR) breaking the euro peg is a step too far for investors, a small position in gold to hedge against the whole global QE experiment ending in inflationary tears must be a reasonable step for a long-term investor. If not, we can throw all monetary economics text books away.”

8 views

Related reading

The US money market fund reforms came into effect in 2016 and are already dramatically shaping US fund industry with investors flooding out of prime funds and into government securities. While the reforms are similar, they are not the same. GTNews interviews Yeng Bulter, global head of the cash business at State Street Global Advisors on the differences.

Far and away, the largest financial market on the planet is the foreign exchange currencies market, where on average individuals and organisations trade more than $5 trillion daily. In the FX world, the ability to master the market isn't considered a luxury for treasury officers–it's a necessity.

Using data for predictive analytics is the future of banking success, argued Jean-Laurent Bonnafé, CEO of BNP Paribas, in his session on how the bank is reinventing its approach to innovate with and for corporates.